24 August 2007

Inflation Report from the Canadian Chamber of Commerce

Headline inflation, as measured by the All-items consumer price index (CPI), rose 2.2% in July 2007 compared to a year earlier. It has remained stable at 2.2% for the last four months. Much of the upward pressure on the all-items index in July again came from the owned accommodation sector (i.e mortgage interest cost, as well as homeowners' replacement cost). Declines in prices for gasoline, computer equipment and supplies, and natural gas dampened the upward pressure on average prices.

Today's inflation data is in line with market expectations. The Bank of Canada will take comfort in the fact that core inflation dropped slightly, however, it still remains above the central bank's inflation-control target.

Moreover, the economic fundamentals in Canada remain sound -- the economy is operating above its productive capacity, unemployment remains at a 33-year low and average hourly wages continue to accelerate. Thus, despite the fact that interest-rate futures suggest that traders are betting on a rate cut, the economic fundamentals suggest the Bank of Canada will likely remain on hold on September 5 so not to exacerbate current market jitters. Canada's central bank will continue to assess the impact of the current liquidity squeeze on the economy. If history is any guide, we can take some comfort in the fact that past liquidity crises (in 1987, 1998 and 2001, for example) did not have a significant impact on economic activity.